Diversify Your Risk With A Foreign Portfolio Investment

With so many investors focusing on large tech companies, diversifying into a foreign portfolio investment strategy could be a smart move. Investing in areas which others are ignoring is a staple of a contrarian investor. It means you get in first and benefit when others follow. Investing in foreign stocks also has diversification and downside risk mitigation benefits. 

Takeaways

• What is foreign portfolio investment

• How it can reduce your overall risk

• What to watch out for when investing in foreign listed stocks

What is foreign portfolio investment?

This is the process of investing in foreign listed equities such as Chinese stocks. Typically investors stick to their home markets because of their familiarity. Major listed companies now have a tangible and identifiable effect on retail investors daily lives. The internet has made far away places appear on your doorstep. How to start investing abroad has become easier than ever.

Although many investors will be familiar and probably own some form of big tech stocks, there are many names closer to home which of interest. The following are household names: Adidas, BMW, Airbus and LVMH. They are all listed on European exchanges. Buy and hold investors would do well to look at such companies.

Reduce your risk

Investing in foreign stocks, which are listed in a currency different to the one you live in, brings foreign exchange rate risk. It also brings diversification from currency related risk. Your home currency may be under pressure and depreciating against other currencies, decreasing your purchasing power. Although typical risk mitigation techniques preach holding part of your portfolio in cash and bonds, holding foreign currency stocks in Euro, Dollar and/or Sterling will reduce your risk from political or economic threats, specific to those currencies.

The routes to take

Although it may feel easier to buy direct stocks of names you recognise, stocks are volatile and therefore riskier. You will also have increased admin around foreign exchange cost and potentially tax. It may be simpler to invest using an Exchange Traded Fund (ETF).

The major ETF providers, such as iShares and SSGA, give you the option of buying a variety of ETFs, which replicate foreign stock markets and sectors. You even save on stamp duty on shares by buying ETFs, not to mention the low (and efficient) cost of owning them. Some ETFs despite replicating a foreign market will be listed in one of, or all three of the major Western currencies: EUR, GBP or USD.

Choose your broker wisely

It is worth shopping around before committing to a broker. It also helps to decide before you invest in foreign stocks how you intend to do so. Do you want to assign some currency and then invest from that balance, or do you want to exchange from your home currency each time you buy a foreign stock?

Some online investment platforms cannot (will not) allow you to send in foreign currency. This is frustrating for you, as it is definitely cheaper than exchanging it using the broker's Forex service. Online investment platforms charge a prohibitively expensive exchange rate - in effect ripping your off.

Look after the pennies and the pounds will look after you.

Some online investment platforms, such as Interactive Investor, do allow you to send in foreign currency directly. This is cost effective for you, as you can use one of the new lower cost Fintech apps such as Revolut or TransferWise, to exchange your home currency in your desired new currency.

Diversify where your portfolios are held

If you already have a stock portfolio in your home currency, it could be sensible to hold your foreign currency portfolio with a different broker or online investment platform. Although having checked that they are regulated will offer you some respite that your assets are safe, you just never know what might happen.

Foreign tax on dividends

You should be aware that there are some disadvantages to foreign portfolio investment. Many countries will tax you on dividends. France and Switzerland, among others, have a withholding tax on dividends. It is possible to reclaim this as a foreign investor in some cases, but it is laborious.

The USA also has a withholding tax, but helpfully you can be exempt from it if you meet the qualifying requirements and fill out a W-8 BEN form. Many brokers will refuse to allow to buy US listed stocks unless you fill out and return this form first.

Conclusion

In the interconnected world we live in, it is easier than ever to hold foreign stocks. It also has many benefits, such as giving you the possibility of investing in a world class leader, which does not have any equivalent in your home market.

As with any investment decision, making sure you understand what it is you are trying to achieve is primordial. Finally making sure you have done the work by thoroughly checking the operational side, and the costs, will ensure you can act with confidence!